In “The Dollar Is Headed Lower“, Randall W. Forsyth wrote in Barron’s that “The dollar’s trend now is unequivocally lower. And that’s apparent whether you look at fundamental factors or the technical picture on the charts.” He does a good job of summarizing the current condition of de facto competitive devaluation that is increasing the piles of currency papering over the planet and driving gold (and silver) prices ever higher. The Federal Reserve’s effective threat to add to this pile is driving the dollar much lower now.
Forsyth also brought together several themes I have wanted to present in one place. I typically scatter my opinions on various currencies across several posts. I thought it would be good at this juncture with the dollar freshly breaking down that I bring together all my thoughts in one place.
First, the chart of the dollar index clearly shows the dollar’s breakdown. The Bank of Japan’s intervention only bought the dollar three days of solace before the breakdown resumed.
*Chart created using TeleChart:
The Euro
As late as August, I thought the U.S. dollar would resume its rally against the euro. Instead, the euro is one of the main beneficiaries of the Fed-induced breakdown of the dollar – much to the ECB’s (European Central Bank) horror I am sure. With Japan threatening to “defend” its currency from further appreciation, the euro stands as the main currency with enough liquidity for big institutions to place their anti-dollar bets. The ECB spent considerable effort this year to disabuse markets of the notion that the euro was about to go extinct. But the last thing the ECB needs is a strong currency as this could completely snuff out any hope for its peripheral countries to export their way to prosperity and/or inflate their way out of their massive debts. It will be interesting to watch how the ECB responds to the sharp irony of the euro flipping from the world’s whipping boy to its latest potential “safety currency” in just a manner of months.
The Canadian Dollar (The “Loonie”)
Hopes that the Canadian dollar could offer safety from the dollar’s devaluation was snuffed in an interview CNBC’s Steve Liesman had with Mark Carney, the head of the Bank of Canada, Canada’s central bank (video posted at the end of this post). Although Canada’s economy has the enviable distinction of returning to its pre-recession peaks, Carney made it clear that the Canada’s monetary policy cannot diverge too much from policy in the U.S. Canada’s biggest issue is its high level of dependence on the U.S.: 75% of Canada’s exports went to the U.S. in 2009 (down from 78% in 2008). On the other hand, Carney also admitted that he is concerned with the high levels of borrowing by Canadian consumers.
The Canadian dollar is near parity with the U.S. dollar – I am guessing it will take a LOT more weakness in the dollar to drive the two into 1.0.
The Japanese Yen
The story is clear here – it will take a lot of very determined buyers to get the yen to continue its ascent against the U.S. dollar -that and/or some extreme weakness in the dollar. The Bank of Japan is trying to shake its status as a beacon of safety, but the appetite for yen remains high. I wonder whether the BoJ is prepared to print as much as it takes to satiate that demand and then some. In the longer-term, I am with Kyle Bass and his predictions of eventual default for Japan’s debt. That is how I continue to play this one.
The Swiss Franc
UBS called this era the decade of the franc. My skepticism was validated in the Swiss National Bank’s (SNB) latest statement on monetary policy on September 16. Not only did the SNB downgrade its expectations for economic growth partially based on the strength of its currency, but also the SNB significantly dropped its inflation forecast by 100 basis points and reaffirmed its commitment to fight too much strength in its currency:
“For the second half of the year, and in particular for 2011…the SNB now expects a marked slowdown in growth. This reflects the strong appreciation of the Swiss franc and the declining momentum of the global economy….Economic recovery is not yet sustainable. Downside risks predominate. Should they materialise and result in a renewed threat of deflation, the SNB would take the measures necessary to ensure price stability.”
The SNB added:
“The possibility that inflation will temporarily turn slightly negative at the beginning of 2011 cannot be ruled out. The inflation forecast indicates that the expansionary monetary policy is currently appropriate, although it poses long-term risks to price stability.”
The SNB is starting to sound like the Bank of England in its desire to find reasons to keep interest rates low even while acknowledging that it is flirting with long-term problems with inflation.
The franc recently reachieved parity and then some with the U.S. dollar. For now, I am betting that this condition will not last.
The British Pound
I have written a lot about the pound and its steward the Bank of England (BoE). The pound is perhaps the big wildcard in the descent of the dollar. Inflation has been hotter than desired in the UK. However, the BoE has held steadfast to its commitment to accomodative monetary policy in the expectation that this inflation is transient and the underlying fundamentals of the economy remain weak. Last week, the pound broke out of its short trading range against the dollar, and it will surely surpass the last peak in August as the dollar’s weakness deepens. If the BoE dares even suggesting rates could soon go up, I am guessing the currency could soar fast. Good economic news could also snap the pound higher very quickly. I am bullish again on the pound, but mainly because of the weakness in the dollar.
The Australian Dollar
I saved the best for last. With a 4.5% interest rate head and shoulders above the rest of the world’s advanced industrial powers, the Australian dollar remains my favorite bet against the U.S. dollar. As currency traders and investor search for cover (and for yield), I strongly suspect the Australian dollar could move swiftly higher with intensity that matches the ferocity of the selling it experienced during this year’s earlier deflationary fears. This should take the Australian dollar to parity and beyond against the U.S. dollar. Stay tuned.
Positioning
Overall, I have taken a weighted portfolio approach to the forex positioning that matches my thematic opinions. This approach has worked extremely well over the past several months when I have been willing to trade in and out of it. The current portfolio is at “full”, and I will be reducing it over the coming days or weeks depending on how things play out. My main pivot is my skepticism over the euro’s recent rise, my expectation that the yen will sooner than later be much weaker, and my bullishness on the Australian dollar. Given the dollar’s technical breakdown, I have had to switch to a much stronger anti-dollar bias as well.
Interview with Mark Carney, the head of the Bank of Canada
Be careful out there!
Full disclosure: short USD/EUR, long AUD/USD, long GBP/USD, long AUD/JPY, short GBP/AUD, long USD/JPY, long USD/CHF, long GBP/JPY, short EUR/JPY, long FXA